Are Forex Brokers Cheating Their Clients?

In two weeks, the National Futures Association – a self-regulatory body that polices the futures industry much the way Finra oversees the brokerage business – says it will begin analyzing trades executed by its 16 member forex firms. The regulator will search for signs these firms are designing computer systems to take advantage of what's known in the industry as "slippage" – small price movements that happen between when a customer orders a trade and when that trade is actually executed. While some slippage is normal (currency prices naturally fluctuate 24/7), the NFA will be looking to see if trades are being executed only when the currency price moves in the firm's favor. This would indicate a firm may be violating NFA rules mandating fair business practices, says spokesman Larry Dykeman. The group can then assess fines, and in some cases may suspend or expel a firm from membership in the organization.

The investigation follows after the NFA issued two complaints in October against Ikon Global Markets and GAIN Capital, accusing both firms of taking advantage of slippage at their clients' expense (These complaints are internal matters, not lawsuits filed in a court.) Both firms settled without admitting or denying the allegations, according to the NFA: Ikon paid a $320,000 fine to the NFA and has stopped offering retail FX trading to U.S. clients; GAIN, which paid a $459,000 penalty, went public in December. A spokesman for Ikon declined to comment. A GAIN spokeswomen said the trades in question accounted for only .05% of its transactions, and that the company will continue to review its operations to ensure that "the interests of our clients and partners are fully protected."

Slippage is a slippery issue, and for individual investors, it's almost impossible to detect. Here's how it works: Let's say a retail investor places an order for euros at $1.335; he may find that by the time his brokerage firm executes the order, the rate has changed to $1.332. Does the customer get that new, lower price, or does the firm reject the order? Is the firm only executing an order when the price moves up in its favor, to say $1.338, and it can pocket the spread? "The market moves very quickly, and that's accepted," Dykeman says. "What we're looking for is fairness."

The price movements in question are tiny. But because currencies move within a narrow range of prices, and because even retail traders commonly use leverage, a tiny advantage can quickly add up. For example, a trader using 50-to-1 leverage could buy $100,000 worth of euros with just $2,000 in his account. If he placed an order to buy at $1.335, but instead paid $1.337, those euros cost him an extra $20. Within months, such spreads can mean millions of extra dollars for forex firms, experts say.

The probe comes at time when currency trading is becoming more popular for small investors looking for bigger returns. Average daily volume in retail forex trading grew 25% from 2008 to 2009, to $125 billion -- up more than tenfold from eight years ago according to consultancy Aite Group. But news of the industry probe could send those new forex clients in search of safer alternatives. "This is really a black mark for an industry that's trying to establish itself as more of a legitimate business," says Sang Lee, a managing partner with Aite Group.

Both the NFA and the Commodity Futures Trading Commission are also keeping mum about any additional investigations that may be ongoing. But when another forex trading firm, FXCM ( FXCM: 14.70, +0.29, +2.01% ) , went public in December, its SEC filings mentioned the Ikon and GAIN cases, and disclosed that FXCM had also been contacted by both regulatory agencies with requests for information about trade execution practices. An FXCM spokeswoman declined to comment by press time.

Regardless of whether regulators find cases of unfair trading, retail investors are still at a disadvantage when trading currency because forex is far from transparent, says Charles Rotblut, the vice president of the American Association of Individual Investors. For example, if a forex firm is acting as a market-maker – taking the other side of a client's trades – it's doubtful the investor is getting the best possible price, he says.

by Sarah Morgan 

Euro Leaps As Debt Fears Ease, Trichet Warns About Inflation

NEW YORK (Dow Jones)--The euro jumped by about 1.7% against the dollar Thursday in its biggest one-day gain since July, after solid euro-zone bond auctions sparked traders to buy back the single currency, reversing its sharp sell-off earlier this week.

The euro rose broadly Thursday, also pushing up against the yen and the Swiss franc, following encouraging debt auctions in Spain and Italy that reduced investors' jitters about fiscal troubles in the euro zone. The single currency has surged by more than four cents now from a four-month low of $1.2860 that it hit three days ago.

Solid sovereign debt auction results have helped boost the euro. Spain and Italy are seen as the euro-zone nations most at risk of falling into a financing crisis as sharp as Greece and Ireland's, requiring a bailout. Their bond auctions Thursday, however, attracted strong demand, even though investors pushed for higher yields. The solid results came after a better-than-expected Portuguese debt sale Wednesday, which also helped the euro.

"Markets had generally looked upon these bond auctions as not being successful, and in fact they were," said Michael Woolfolk senior currency strategist at BNY Mellon in New York. The euro has even more room to rally from here, Woolfolk said, citing a near-term ceiling of around $1.3500; a level last seen in mid-December.

Three days after falling to a four-month low against both the dollar and yen, the euro was also bolstered after European Central Bank President Jean-Claude Trichet highlighted inflation risks and raised the specter of potentially higher borrowing costs. Higher interest rates would increase demand for the euro, as the comparatively lower rates in the U.S. would send investors in search of higher returns of euro-denominated assets. His comments helped to restrain those traders who are still bearish on the euro.

Speculation has been rampant as well that a deal on extending the European Financial Stability Facility, the euro zone's bailout fund, could be imminent. That has helped the euro to, at least temporarily, overcome much of the negativity that has dogged it in recent sessions.

Still, investors remain nervous about Europe's ability to contain the fallout from the financial crisis that has roiled the euro zone. Several noted that the currency followed a similar relief rally after Greece and Ireland were bailed out, only to have debt concerns resurface.

"I think it's going to be extremely difficult [for Europe] to snuff out the entire crisis without massive change," said Andrew Wilkinson, senior market analyst at Interactive Brokers.

Woolfolk said the euro could soon break down once again, falling under the $1.30 level. One possible outcome, said Woolfolk, is that Germany and France could push Portugal to adopt a financial bailout package to stem contagion in the area. "Then, all eyes turn toward Spain," he said.

Meantime Thursday, the dollar weakened after data showed the number of U.S. workers filing new claims for jobless benefits jumped last week, by 35,000 to 445,000, versus expectations for a drop of 2,000. Even as an economic rebound has gained pace in the U.S., the labor market remains stubbornly weak and many expect improvements will be gradual.

Late Thursday, the euro was at $1.3364 from $1.3131 late Wednesday, according to EBS via CQG. The dollar was at Y82.80 from Y83.01, while the euro was at Y110.67 from Y109.02. The U.K. pound was at $1.5835 from about $1.5763. The dollar was at CHF0.9637 from CHF0.9666.

The ICE Dollar Index, which tracks the U.S. dollar against a trade-weighted basket of currencies, was at 79.155 from about 80.031.

For the euro's performance against the dollar, please see:

http://www.dowjoneswebservices.com/chart/view/5270

-By Javier E. David, Dow Jones Newswires; 212-416-4564; javier.david@dowjones.com

Economists at Convention See US Decline, China Rise

To hear a number of prominent economists tell it, it doesn't look good for the U.S. economy, not this year, not in 10 years.

Leading thinkers in the dismal science speaking at an annual convention offered varying visions of U.S. economic decline, in the short, medium and long term. This year, the recovery may bog down as government stimulus measures dry up.

In the long run, the United States must face up to inevitably being overtaken by China as the world's largest economy. And it may have missed a chance to rein in its largest financial institutions, many of whom remain too big to fail and are getting bigger.

On the one hand, Harvard's Martin Feldstein said he believes the outlook for U.S. economic growth in 2011 is less sanguine than many believe.

First, the boost to growth from government spending will be drying up this year, he said. Renewal of expiring tax cuts is no more than a decision not to raise taxes, and the impact of one-year payroll tax cut is likely modest, he said.

"There's really not much help coming from fiscal policy in the year ahead," he said. Woes from the dire situations of state and local governments may actually be a drag on growth, he said.

Growth got a lift from a lower saving rate in 2010, but that probably will not last this year as households worried about an uncertain future return to paring back debt and socking more away, Feldstein added. Discouraging declines in home values mean there is less to save from, he said.

"People are worried, so there's a strong reason for precautionary saving," he said.

The Race is On

On the other hand, there is the race with China and the dynamic Asian economies, including India. Most estimates put the size of the Chinese economy on par with the United States by the early 2020s, said Dale Jorgenson, also of Harvard.

Jorgenson sees Asian emerging markets as the most dynamic in the world, eclipsing other emerging market contenders such as Brazil and Russia with steady growth over the next decade.

"The rise of developing Asia is going to accompany slower world economic growth," he said.

The United States will need to come to terms with the fact that its prevalence in the world is fated to come to an end, Jorgenson said. This will be difficult for many Americans to swallow and the United States should brace for social unrest amid blame over who was responsible for squandering global primacy, he said.

MIT's Simon Johnson put it more bluntly, saying the damage from the financial crisis and its aftermath have dealt U.S. prominence a permanent blow.

"The age of American predominance is over," he told a panel. "The (Chinese) Yuan will be the world's reserve currency within two decades."

Johnson said he believes the United States has failed to learn its lesson from the financial crisis and continues to implicitly back its largest financial institutions.

"I'm concerned about the excessive power of the largest global banks," he said. "Who are the government-sponsored enterprises now? It's the six biggest bank holding companies."

To be sure, Raghuram Rajan, a former IMF chief economist now with the University of Chicago's Booth School of Business, could still envision an ongoing U.S. leadership role.

Nothing proceeds in a straight line, he said, and there are many pitfalls along the way even for dynamic Asian economies.

"I would say the age of American dominance may be nearing an end. But America as the biggest mover will be in place for a long time," he said.